Phases of Due Diligence
A typical LMM due diligence process has four parallel tracks:
- Financial diligence: QoE, historical financials review, working capital analysis, debt and liability identification, review of accounting policies
- Legal diligence: Review of all material contracts, IP ownership, litigation history, employment agreements, regulatory compliance, real estate leases, UCC liens
- Tax diligence: Federal and state tax returns for 3–5 years, payroll tax compliance, sales tax nexus, open audit periods
- Commercial/operational diligence: Customer interviews (limited), market analysis, competitive position, operational processes, technology systems, key supplier relationships
The Data Room
Almost all LMM due diligence is conducted through a secure virtual data room (VDR) — typically Datasite, Intralinks, or a simpler tool like ShareFile or Dropbox Business. The seller uploads documents; the buyer's team accesses them with role-based permissions. Questions are tracked through a formal Q&A process.
A well-organized data room materially accelerates due diligence. Sellers who organize documents into standard categories (financial, legal, HR, operations, customers, suppliers) before the process starts close faster and with fewer issues than those who assemble documents reactively.
Common Due Diligence Findings That Affect Price
- Adjusted EBITDA lower than represented (the most common)
- Undisclosed liabilities — environmental, employment, tax
- Customer concentration higher than disclosed
- Key contracts with change-of-control provisions that require consent
- Deferred maintenance or capex requirements the seller hasn't disclosed
- Owner compensation or add-backs that don't survive scrutiny
What Sellers Should Do During Diligence
- Respond to information requests promptly — slow responses signal disorganization and erode buyer confidence
- Assign one internal point of contact to manage the data room and Q&A log
- Flag issues proactively rather than waiting for buyers to find them — discovery by the buyer is always worse than voluntary disclosure
- Continue running the business normally — buyers watch Q4 performance against prior year while in diligence
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